Waving a Warning Flag

Top of the Ninth: Government programs and their effects on number of jobs.

With my tongue pressed only lightly against my cheek, let me propose
a new law: Whenever any government program is defended on how it affects
the number of jobs in the economy, a little red flag must be waved.
The flag would alert the public that, although the program may change
the composition of jobs, it is not likely to change the total number
of jobs. In most instances defense of or opposition to the program based
on jobs is a substitute for arguing for or against the program based
on its particular merits and costs. Let me make my case by suggesting
how programs should be justified, explaining how total employment is
determined and illustrating how typical jobs-based justifications are
misleading.

Government programs, or other market interventions, need to be
justified by demonstrating that they will lead to improvements in the well-being of the citizens. As Murray Wiedenbaum, former chairman of the Council of Economic Advisers, put it, policymakers must be able to answer yes to
these two questions:

Can government intervention be justified based on a clearly identified
market failure?

Even if there is a market failure, will the proposed government
intervention lead to an improved outcome?

The correctly applied principles behind these questions are that
unless proven otherwise, freely operating markets can best deliver the
goods. These principles also acknowledge the big difference between "can"
and "will." Just because a government program can improve things, there is
no guarantee that in practice it will.

Many government programs are not justified by applying Wiedenbaum's
principles. Instead, they are justified because they will increase
employment. In most of these cases that justification is not valid, and
examining how total employment is actually determined helps to make that
clear.

Over time, total employment in the economy is determined essentially
by how many people want to work. That depends on the size of the
population, cultural attitudes toward work, and policies, such as
unemployment compensation, which affect the relative returns to working and
not working. Over time, wages adjust so that firms are willing to hire
those who want to work.

In the shorter run, economists disagree about what determines
employment and whether countercyclical monetary and budget policies can do
much about it. But those who do believe in the efficacy of these policies
rely principally on these policies' ability to affect the economywide
demand for goods and services.

Let me now turn to three policies that have been debated in terms of
their employment effects and tell you why I think these discussions may at
times have been misleading. The three are environmental policies, free-
trade agreements and state/local industrial policies. None of these
policies changes the real factors that determine the level of employment
over time and none need change the level of demand in the shorter run.
However, each would affect the composition of employment.

In recent years we have heard how strict environmental laws would
either cost jobs or create jobs. Although it's true that they would cost
some existing jobs, they would also add some new ones. But they would do
little to the total. If we outlawed carbon fuels, we could still have
everyone working, as they did in the 1600s. Many just would be making wagon
wheels and buggy whips.

I am not belittling government's role in protecting the environment. There
is a market failure in dealing with pollution. But when the government
proposes a new environmental policy, it needs to demonstrate that
the benefits of the programas it is actually implementedwill
exceed the costs. Arguing about its employment effects is a distraction.

The North American Free Trade Agreement (NAFTA) is a second policy
that has been debated based on its employment effects. Again, the policy
would cause some people to lose jobs, but new jobs also would be created.
There is no reason to believe total employment would be affected. Nations
can decide not to trade at all and still have full employment, as some
island economies have done, or nations can decide to trade freely and have
full employment, as Great Britain did in the 1800s. Free trade allows more
specialization and allows the total amount of goods and services to
increase in the trading countries. Thus, freeing up trade would not change
the total amount of jobs, but it would change the types of work people were
doing.

I believe governments' policies of restricting trade are not justified
when Wiedenbaum's two principles are applied. There is no market failure
that warrants such government intervention. Thus, policies which move us
toward free trade are beneficial. The real issue is whether NAFTA is moving
us in that direction. Although NAFTA makes trade easier in North America,
it makes trade more difficult between countries from outside and from
inside the continent.

Finally, let me discuss state and local government programs designed
to either create or save jobs. One such program by New York City used a
system of incentives to keep firms from moving out of the city. The trouble
was that subsidies to weak firms had to be paid for by higher taxes on
healthier firms. Not surprisingly, a study concluded that the healthier
firms moved while the weaker ones stayed, and, if anything, employment in
the city decreased. This program also fails the Wiedenbaum test. An appeal
to jobs once again sold a program that was not wise.

If my law is not passed, citizens should wave a red flag in their
minds when they hear claims that government programs will create jobs.
Citizens should ask themselves:

Can private institutions solve the identified problems?

If they cannot, will government involvement, in practice, make the outcome
worse? If the answer to either question is yes, citizens should ask
the government to wave a white flag and retreat.